Considering prepayment plans and biweekly mortgages

When the last week of a beautiful October quickly slipped into November shorter days, the McMonigle kids decided the time had come to take over the loan payments of the family cabin from their parents.

Each of the three kids and their families had enjoyed their allotted time at the lakeside retreat fishing, water skiing, sailing and visiting with long-time lake families who had, like them, had children of their own.

The financial shift had been in the works for some time, yet was brought to a head when the folks refinanced the place on a 30-year, fixed-rate loan (“I’m not gambling on those ARMs,” said Grandpa Bill) and had taken the $300,000 in funds to buy a condo in Tucson.

It was not the first time the lake place had been refinanced. Bill had pulled out cash for two college tuitions and years ago plunked down $7,000 to secure a spot for his mom at a popular nursing home. The lake home has been more than a coveted gathering place, it’s been a consistent appreciating asset.

The McMonigle situation was amazing – all of the three grown children wanted to keep the lake home, planned to use it and lived in the area. All the siblings got along and their kids were best-friend cousins. More importantly, all of them, bolstered by their spouses, earned a family income that could handle their share of the cabin payment.

Irene, the oldest, suggested a biweekly payment option. She got the idea from a solicitation that arrived from her bank. It suggested the family could save thousands in interest dollars by paying off the mortgage sooner via two payments a month rather than the single monthly payment. A total of 26 biweekly payments would be made instead of the usual 12 monthly payments, amounting to an “extra” month’s payment every year. This conversion could be done for “free” according to the offer.

Solicitations for biweekly payment plans have become common as borrowers look to pay off their homes faster. Instead of the standard one-payment-per-month schedule, some companies specializing in accelerated payoff programs solicit mortgage brokers with a custom option for their loan customers. For a one-time fee of $395, the borrower can have a tailor-made plan written for their loan. The mortgage broker is offered an incentive, typically $300, to “sell” the program to his customers.

The sales pitch typically focuses on the ability to accrue equity faster, saving thousands of interest dollars, maintaining a better credit rating because electronic transfers are rarely late and a hassle-free prepayment amortization schedule generated by the lender.

Sometimes, the original lender will offer a biweekly program at no cost to the borrower. To qualify, borrowers usually are required to authorize an electronic transfer of half the monthly payment every two weeks. The extra money is then applied to the principal of the loan. Interest savings can differ depending upon when the payment is applied to the principal.

Let’s look at a basic prepayment schedule. Rather than 12 monthly payments of $1,520.06 on a 30-year, $300,000 mortgage at 4.5 percent, a borrower would make 26 biweekly payments of $760.03. As a result, total interest would shrink by $43,559.62 from $247,220.13, and the loan term would shorten by approximately five years.

If the biweekly payments were applied precisely at mid-month and not at the end of the month, the borrowers would save even more interest dollars.

The McMonigles eventually elected to make extra payments to the 30-year, fixed-rate loan that amortized the loan over 20 years, saving the children $126,117 in interest over the term of the loan. The extra monthly payment that reduced the loan term was $300.

It’s true – anybody can prepay a loan. Any additional money added to the monthly payment almost always goes to the principal automatically. If you are aiming at reducing your loan term, consider a 15-year fixed-rate loan because it usually comes with a .35-.40 of a percentage point discount from the 30-year fixed. While the McMonigles will save money by prepaying, their interest rate will remain the same.

Tom Kelly’s novel “Cold Crossover” is available in print at bookstores everywhere and in both print and Ebook form from a variety of digital outlets. Follow real estate agent and former basketball coach Ernie Creekmore as investigates the disappearance of his star player on a late-night boat. Check out the national reviews and put “Cold Crossover” on your list.